Lisa Fernow — January 2, 2017 The other day I was listening to a colleague describing the difficulties one of his portfolio company CEOs was having with their Board. The CEO wanted to go one way. The Board wanted to go another way. If they didn’t resolve their differences the CEO would have to go. Nobody wanted that.
It occurred to me that these tensions aren’t unusual. In fact, they are common and can become startup pitfalls.
Since many of you who thrive on innovation may at this point in your careers be considering starting your own companies―or joining a startup board―I thought it might be useful to get some advice on what can go wrong between CEOs and their Boards so you can avoid these common startup pitfalls.
I turned to a colleague who has seen these issues from multiple sides. In his 30+ year career, Robert Bismuth has served as CEO of five startups, as a Board Observer or Board Member of seven startups plus four major industry consortiums, and advised about a dozen others. He currently serves as VP of Business Development and Strategy for STOIC, a software company based in Palo Alto, and as Director General of its hardware spinoff, SAS Fermat, based in Paris.
Bismuth was kind enough to document some of his favorites pitfalls below. Names have been omitted to spare all concerned.
Four Lethal Startup Pitfalls
- “Helping” the CEO
- Controlling the “Baby”
- Cult of Personality versus Cult of Vision
- Dilution, Crushing and Crafting the Exit
“Helping” the CEO
Frequently members of a board will decide to “help” a CEO in her or his decision making, hiring, strategic direction, sales pipeline, brand, technical development, or any of the multiple dimensions all startups struggle with as they establish themselves. Sometimes help is truly needed―even asked for. Sometimes it is not.
For example, a board may decide that a sales pipeline needs to be more robust and the issue is recruiting a VP of Sales to help the CEO develop customers. If the company’s products or services are at a suitable state of maturity, then such a hire can be very useful. Typically, this would be after initial proof of concept customer engagements have led to production deployment and initial revenue.
If, however, the maturity of the company and its product or services is not yet established, this move is generally not good. It burdens the company with a significant cost in terms of executive compensation and introduces a cultural change. Frequently such a badly timed move is interpreted negatively by the CEO who takes the incoming executive as the “board’s person” and therefore trust issues develop between the CEO and his or her board.
I have seen this type of “helping” activity destroy more than one company. In one prime example, the Board decided that in order to avoid losing time in the market, the company needed to develop an enterprise sales and consulting organization so that when its product was ready, it could hit the ground running.
What the Board didn’t realize was that the cost of those organizations would significantly impact the overall spending of the company which forced the CEO to reduce spending on engineering. The spiral that resulted eventually caused conflict: the Board blamed the CEO for overspending while the CEO distrusted the Board because it had pushed forward expensive executive hires. The CEO left the company and the Board eventually sold the company for pennies on the dollar.
Controlling the “Baby”
Investors typically look for companies that have a great team, excellent idea (the best being disruptive to their target markets), and a somewhat believable path to market that will eventually produce meaningful financial projections allowing an eventual exit for early investors with a healthy return on their investment. One of the dimensions and potential startup pitfalls that is critical in evaluating the probability of success is the passion behind the company―particularly the passion of the CEO. Is she or he willing to sacrifice everything to see their “baby” born and then continue to sacrifice as the “baby” matures and develops?
That level of passion is truly like the passion a parent has for his or her child. Imagine a parent being told that they are doing something wrong raising their child―or worse, being threatened with having that child given to a foster parent. Good parents will do anything and everything they can to cling on to the child and bring it up “their way.”
That’s exactly the issue that rises in a company with a truly passionate founder CEO when her or his board tries to interfere with his or her vision, strategy, or tactical decisions. Sometimes that interference is justified as the CEOs can―and do―lose sight of their responsibilities to their investors. After all, it is not the CEOs money that is on the line and the board represents the investors.
In many companies the battle for control truly wreaks havoc. The board of a company holds the ultimate power in that struggle and often agonizes over whether to step in and exert control over a company that is not moving forward as expected. Sometimes the board is correct in doing that. Sometimes the board is not. A misjudgment can have disastrous results, ultimately destroying shareholder equity in what becomes a non-recoverable death spiral.
A board exerting its control of a company is never a good sign. It means something has broken in one or more areas―strategy, customer engagement, product development, fiscal responsibility, etc. Unless the board is particularly good at diplomacy, it almost always results in a breakdown in trust between company management and its board. This typically leads to two outcomes: replacing the management or selling the company.
In either case, the value of company decreases precipitously.
It is easy to spot companies that have endured this type of control issue: just look for companies that have had a remarkable number of CEOs within a relatively short period of time. One example is a public company which is current being sold by its board. With ten or so years that company has had around five CEOs including its founder, who was brought back. The founder and his Board could not decide who had control and so he left again. The current CEO is clearly not experienced enough for the job though the Board tried to pull back and let the CEO manage the company.
The result was a continued decrease in the company’s market share while burning through cash reserves. Eventually the Board stepped in but left the CEO in place while they proceeded to get a buyer for the company. This was actually one of the few times they should have replaced the CEO but they became trapped in a logic put forward by that CEO: best leave me in place to do the deal or it will be worth less than if an acting CEO were put in place.
Again, control was muddled: sometimes the CEO has been in control and sometimes the board. In reality, when the latest CEO failed so badly, the board should have removed the CEO and put in place a temporary CEO with one goal: sell the company thereby providing the buyer with a much cleaner purchase since the buyer would not have to pay out a severance package to a poor CEO who could not successfully deal with the control issues that resulted from the board’s activities.
Cult of Personality versus Cult of Vision
Often times a founder CEO is so passionate about her or his vision that she or he drives the formation of the company through the very force of her or his personality. The initial team are frequently skilled professionals who know the CEO quite well and almost worship his or her personality. That personality becomes stamped on the initial culture of the company.
If the CEO comes in conflict with his or her Board, the cult of personality issue becomes one of the potential strategic pitfalls and problematic: taking steps to control, aid, limit or even replace such a CEO is very risky as the entire start-up workforce is essentially there because the CEO talked them into joining and any admission of fault or shortcoming on behalf of the CEO becomes a personal issue for workers. Boards which take action against this cult of personality do so at great peril to the company and the shareholders they represent.
Many of the largest, most successful companies in the world were born of a cult of personality around the founder CEO―Microsoft, Apple, Google, Facebook, Amazon, and even old school companies such as GE, IBM, FEDEX, UPS, Intel, etc. However, in all these cases, the cult of personality successfully transitioned to the cult of vision. In some cases, this happened very smoothly (GE, IBM, Microsoft, or Intel for example) and in some cases the transition was extremely bumpy. Apple is a prime example of a difficult transition which eventually happened but had several false starts over the preceding decades.
A good CEO seeks to move his or her company into a cult of vision. This is the only way a succession plan, or exit plan for the investors, can reliably work. If a CEO does not accept that goal or if a board moves before the goal is achieved, the result is a waste of shareholder value and ultimately the demise of the company.
I know of one start-up in which the major shareholder lost faith in the CEO and decided to remove the CEO too soon. What that shareholder failed to understand was that the majority of the company was in the mode of working for the CEO and not for the vision that the company was working to achieve. When the CEO was escorted out of the company, both the engineering and financial teams resigned completely within a week. The shareholder was left with a company that did not have a completed product and without any sense of the company’s financials.
Needless to say, that company never recovered and its assets, such as they were, disintegrated before they could even be sold.
Dilution, Crushing, and Crafting the Exit
At any stage in the development of a start-up, the issue of funding, investment, and exits are always on the table for a company’s current investors and represent potential startup pitfalls. When will more cash be needed? Will the company manage that through free cash flow? If more investors are needed, what terms and valuation would be offered up for attracting their capital? What’s the eventual exit strategy?
Each class of investor (Angel, VC, Corporate, etc.) has different priorities in all these (and other) dimensions. A company’s CEO also has his or her own priorities, usually starting with trying to minimize any dilutive impact on her or his equity position. CEOs who focus on that issue will sooner or later find themselves at odds with their boards if they fail to be flexible. At the end of the day, it is a company’s board that will make such decisions and not the CEO. Company management may advise or offer opinions but the end decisions around funding, exit, etc. will be in the hands of the external directors―many of whom will possess special rights based on when and how they became an investor.
CEOs frequently get into trouble with this―particularly if they have a deteriorating relationship with their Boards. I had sat on a Board of a company whose Board had lost faith in the CEO. This was mirrored as the Board was doing its best to give the CEO as much chance as possible to turn the company around. The CEOs solution was to solicit an acquisition offer from a private equity firm which, if accepted, would have taken out the Board.
The CEO was fired and a new turn around CEO brought in. It was painful for all involved. Ultimately that company was merged into a much larger concern and the investors walked away with a reasonable return.
The CEO was never able to raise sufficient investment capital for any future venture and left the private sector.
These are just some of the issues I have seen as a CEO, as a board member, and as a strategic advisor to both company management and boards.
Being a CEO is a tricky thing: you have to balance your daily single minded commitment or passion for your current direction with an ability to take input and work collaboratively with those trying to help you.
And Advice to New CEOs and Board Members
I found it fascinating to hear Bismuth’s take on this subject because usually I only get to hear from one side or the other. Here are the lessons I took from his examples―I’m sure you’ll take others as well.
When you become a CEO:
- Understand you’ll be working for your Board and manage up accordingly.
- Choose your Board members carefully. Go beyond looking at their skills and networks and check out what their communications styles. Do they have a track record of working well with their CEOs? How have they handled conflicts with the CEOs they have worked with in the past?
- Check yourself out using the same criteria. Consider getting a coach if you have any concerns about your soft skills.
- Check your ego at the door but not your passion.
- Actively work to build trust with your board. Determine in advance, together, how you’ll resolve your differences.
When you become a Board member, the mirror image of these points applies:
- Understand startup CEOs may think their company is their baby and will sometimes be blinded by this. Understand how well they collaborate with others, how well they listen to advice.
- Choose the boards you serve on carefully. How well do they function today? What conflicts are they wrestling with?
- Think when and how to give advice, when to suggest versus when to push.
- Actively work to build trust with your CEO and your other board members so when conflicts arise you can have safe discussions.
As Bismuth commented, many companies succeed with flexible CEOs who have managed growth well, taken their boards’ advice, and allowed their “babies” to grow in paths they did not expect. Other CEOs fail in conflict with their boards.
I look forward to hearing your thoughts.
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